Why Predictions of Another Drop in Canada Output May Prove Wrong

Among bank economists, it’s almost unanimous: Canada’s economy shrank for a second consecutive quarter from April to June.

For Philip Cross, the former chief economic analyst at the Ottawa-based Statistics Canada, they’re probably wrong.

Gains in business income and a surge in exports make it almost certain the economy expanded in the three-month period, Cross said, despite monthly GDP data that suggests otherwise. All but one of 13 economists surveyed by Bloomberg on Friday morning project a drop in output in the second quarter. The median estimate is for a 0.9 percent annualized decline, following a 0.6 percent decline in the first quarter.

“I know you can be fooled by the numbers and there might be something out of the blue I haven’t thought of but I’m very very confident,” Cross said in an interview, projecting results of anywhere between zero and 1 percent. “GDP will almost certainly be positive.”

Statistics Canada releases second-quarter GDP on Tuesday. While small forecasting discrepancies don’t usually matter, this time is different. A negative GDP number will have political ramifications in the middle of an election campaign, bolstering claims by opposition leaders the nation fell into a recession in the first half of the year.

Two consecutive quarterly declines in GDP is one widely used marker of a possible recession.

Cross, who left Statistics Canada in 2012 and now works as a fellow at the Macdonald-Laurier Institute and C.D. Howe Institute, said trade data that showed a 6.3 percent surge in exports in June, which was the biggest gain in almost a decade, is a key indicator.

“You plug in net exports on the expenditure side, you’re going to get a big positive, you don’t need anything else,” he said.

Income Measure

To Cross, a report this week that showed corporate profits rose 13 percent in the second quarter also implies Statistics Canada will report growth.

“It’s called the income and expenditure account,” and the statistics agency tries to keep any discrepancy between the two as low as possible, Cross said.

“We knew there was a big item on the expenditure side, you would be looking for what was the big item on the income side that’s going to keep the accounts in balance,” he said. “This is it.”

There are effectively three separate measurements of GDP: income, expenditure and output by industry. Economist forecasts for a second-quarter decline are largely based on monthly industry data for April and May that are suggesting GDP is almost certainly negative in the second quarter.

Industry Output

Using the industry measure, gross domestic product fell 0.2 percent in May and 0.1 percent in April. This data implies that in order to avoid a second-quarter contraction, the economy would have had to expand at least 1 percent in June -- something that hasn’t happened in more than a decade.

The poor monthly GDP data is prompting economists to discount stronger expenditure, in part by assuming exports came out of inventories.

Cross said Statistics Canada will probably do the reverse: discount the monthly GDP data and put more weight on the expenditure data. Part of the problem is the monthly GDP data may be distorted right now since weightings for the oil and gas industry aren’t reflecting the recent plunge in prices. In other words, they give the oil and gas sector too great a weight.

“There are three measures of GDP really and they all have to be within 0.1 percent of each other,” Cross said. “If two of them are strong, it’s going to be up to the other one to get in line.”

“In this case I’m betting the industry boys are the ones that are scrambling now to find growth,” he said.